Call spreads explained — trade directionally with limited risk on OKX

okx learn
OKX Learn
2022.06.17

A call spread is a multi-leg options trading strategy that involves buying and selling two differently priced options contracts with the same underlying asset and expiration date at the same time. When buying a call spread, the trader will buy a call with a lower strike price and sell one with a higher strike. When selling the spread, the trader will sell a lower strike call and buy one with a higher strike. Such vertical call spreads seek to profit from price moves to the upside or downside while significantly limiting risk compared to simply longing or shorting the underlying asset. 

In this guide to call spreads, we introduce the strategy, explaining how it can be profitable in different scenarios. We then discuss its advantages and situations in which a trader might look to deploy either a long or short call spread. After addressing the strategy’s risks, we conclude with a tutorial on how to trade call spreads on OKX. Let’s go!

What is a call spread?

Before kicking off, this guide and the following tutorial assume a base understanding of how options contracts work and their associated terminology. If you’re new to options, we recommend you start with this dedicated guide.

A call spread — not to be confused with a call calendar spread — is a limited risk, directional options trading strategy that involves simultaneously buying and selling call options contracts. Crucially, each leg must share the same underlying asset and expiry date but have a different strike price. 

There are two types of vertical call spreads. A bull call spread (or long call spread) involves buying a low strike price contract and selling a higher one. Conversely, a bear call spread (or short call spread) involves selling a low strike price contract and buying a higher one. 

Buying a call spread is another name for deploying a bull call spread. A trader will look to buy a call for lower than the underlying’s current market price and sell one above it. The inverse is true when selling the spread. As the names suggest, a trader deploying a bull call spread anticipates the underlying’s price to rise, and a bear call spread seeks to profit from a price decline. 

When entering a bull or bear call spread, a trader pays to buy a call and receives payment for selling a call. This difference is known as the trade’s “debit” if it loses the trader money, and “credit” if it returns a profit. 

A bull call spread’s maximum possible loss is incurred when the spot price falls below both positions’ strike prices. With both options expiring out of the money, the trader’s loss is limited to the debit alone, as neither trader takes further action.  

Meanwhile, the maximum loss of a bear call spread is incurred when the spot price rises above both positions’ strike prices. This time, both options are exercised, and the loss is limited to the spread width minus the credit the trader received when entering both trades. 

A trader profits maximally from a bull call spread when the underlying’s price rises above the higher strike price. In this case, they exercise their option to buy an asset below the market price but must also sell the same amount for a higher price. The difference between the two strike prices, minus the debit paid to enter the trade, is the maximum profit. 

A trader profits maximally from a bear call spread when the underlying’s price falls below the lower call’s strike price. In this scenario, both options expire worthless, meaning neither party takes further action, but the trader selling the spread will have made a profit from the credit received when entering the trade. 

The breakeven point of a bull spread is calculated by adding the debit to the lower strike price. Any price above this point at expiry will result in a profit. Meanwhile, a bear spread’s breakeven point is calculated by subtracting the credit from the upper strike price. Any price below this point at expiry will result in a profit. 

 The key characteristics of a call spread are: 

  • Must comprise two legs only, and both must be call options 
  • Each call must be for the same underlying asset with the same expiry date
  • Legs must be opposite (i.e., buying one call and selling the other)
  • Call spreads are directional
  • Both calls must have a different strike price
  • The quantity of the underlying traded in each leg must be identical

Call spread examples

Let’s look at some examples to illustrate how bull and bear call spreads work in practice. 

Bull call spread example

ETH is trading at 1,500 USDT, and our trader buys a 1,450 USDT call for a mark price of 90 USDT. At the same time, they sell a 1,550 USDT call for a mark price of 50 USDT. This gives the trade a debit, and therefore total maximum loss, of 40 USDT. 

Suppose ETH price drops to 1,300 USDT by the contracts’ expiry. Both contracts will be worthless on expiry — neither contract holder would want to buy ETH above the market price. Therefore, they incur the maximum loss of 40 USDT. 

The benefit of the call spread becomes clear when we compare this trade to simply purchasing 1 ETH. If the ETH price dropped to 1,300 USDT, the trader would lose 200 USDT, which is a more significant loss than the 40 USDT maximum loss guaranteed by the bull call spread. 

The trader can also calculate their total maximum profit and a bull call spread’s breakeven point before placing their orders. The total spread width is 100 USDT, and the debit is 40 USDT. If the ETH price is above the upper contract’s strike price by expiry, both parties can exercise their contracts for a profit. In doing so, our trader will buy 1 ETH for 1,450 USDT and sell 1 ETH for 1,550 USDT. This gives them a 100 USDT profit. When we subtract the debit, they are left with 60 USDT. 

To calculate the trade’s breakeven point at expiry, we simply take the lower strike price (1,450 USDT) and add the debit (40 USDT). If the price at expiry is exactly at the result of 1,490 USDT, the higher strike option will expire worthless. Meanwhile, the lower strike call would be worth only its intrinsic value at expiry, which would need to be more than the debit to return a profit. 

Bear call spread example

ETH is trading at 1,500 USDT, and our trader sells a 1,450 USDT call for a mark price of 90 USDT and buys a 1,550 USDT call for a mark price of 50 USDT. This gives the trade a credit and, therefore, a total maximum profit of 40 USDT. 

If the ETH price falls below 1,450 USDT — the lower strike — both contracts expire worthless, and they receive the credit as profit. 

If the ETH price increases to more than 1,550 USDT, both calls can be exercised in the money. In this case, the trader will sell ETH for 1,450 USDT and buy it for 1,550 USDT, resulting in a 100 USDT loss. Since they made 40 USDT placing the original trades, their total overall loss is 60 USDT. The trade’s breakeven point will be the upper strike price minus the credit — in our example, 1,510 USDT.     

Why trade a call spread?

When trading either a bear or bull call spread, losses, maximum profits and a trade’s breakeven point are all known in advance. The strategy still allows a trader to speculate on the underlying’s price direction, but with much less risk than simply taking an outright position on the asset. 

A bull call spread enables a trader to bet on future price increases while ensuring that losses incurred from a sudden price drop are limited. Similarly, a bear call spread allows a trader to speculate on an underlying’s price decline without the infinite loss risk that selling naked calls carries.   

Call spreads are also more cost-effective than simply taking either a long or short options position. By taking both sides of a trade, the funds received for the short leg offset those spent on the long leg. If the trader had bought only a call option, their total cost would be more significant. 

Additionally, selling a call spread often provides a more attractive margin requirement than trading directionally with a single options contract. With opposite positions open simultaneously, one position’s profit or loss offsets the other trade leg. Therefore, margin requirements will be limited to the difference between the two options’ strike prices. The necessary margin for a call spread is easily calculated and remains constant, making it a capital-efficient way to trade a market.  

Call spread risks

While traders use both bull and bear call spreads to mitigate risk, the strategy does have some downsides. Its main drawback is that it has limited profit potential. If the underlying asset rallies above the upper strike price when deploying a bull call spread, the trader will miss out on much of the upside. Similarly, if the underlying plunges with a short call spread, there is no value in keeping the positions open below the lower strike price. 

As with any multi-leg trading strategy, execution risk is also a factor. If only one leg fills, the trader is suddenly exposed to the risks the call spread was supposed to mitigate. If only the long leg fills, they do not benefit from the short leg offsetting the cost of the trade. If only the short leg fills, they are exposed to potentially infinite losses. If the underlying asset suddenly rallies, which it can do at a moment’s notice in the volatile crypto markets, losses from selling a naked call like this can be extreme.

However, advanced trading tools can eliminate execution risk entirely. For example, OKX’s powerful block trading platform lets traders place two or more trade legs simultaneously. Doing so removes any chance that only one position will be filled. 

Getting started with call spreads on OKX

OKX provides various features and tools to deploy sophisticated trading strategies, including both bull and bear call spreads. Not only do such additions to our world-leading platform help mitigate risk, but they also speed up the process of entering into more complex strategies. 

We aim to expand the features we offer over the coming weeks and months and will update this guide as we do.   

Block trading

Our block trading platform enables higher net worth traders to avoid price slippage by negotiating trades privately, away from the order book. It also features various predefined multi-leg strategies for users to initiate trades like the call spread in just a few clicks. If you’re unfamiliar with block trading, we recommend this dedicated guide before using it to deploy a multi-leg strategy. 

Follow the steps below when you’re ready to deploy call spreads via the block trading platform. 

First, select which asset you want to trade using the highlighted menu from the “Pre-defined Strategies” section to the bottom of the RFQ Builder. Then, click Call Spread

On the RFQ Builder, two call option trade legs will appear. First, select the same expiry date for each and then choose a strike price. The buy leg should have a lower strike if you’re buying the spread. If you’re selling the spread, the sell leg should have a lower strike. 

Then, enter an equal amount of the traded crypto under the “Amount” column.  

Now, choose the desks from which you want to request quotes using the link to the right of “Selected counterparties.” You’ll also see an estimated combined mark price for both trade legs. 

Check your trade details and click Send RFQ

Click View on RFQ Board on the following pop-up. 

You’ll see the best quote for your proposed trade on the RFQ Board under the “Bid” and “Ask” columns. You’ll also see other details such as the time of creation, time until expiry, status and the counterparty making the quote.  

Click the green Buy button to buy the spread or the red Sell button to sell the spread. 

On the “Order Confirmation” pop-up, check the details once more. Then, click Confirm Buy or Confirm Sell to place your order, or Cancel to edit any of its details. 

Both legs will simultaneously fill and appear in the “History” section at the bottom of the RFQ Board. The trade will remain there for seven days, after which you will need to click view more  to see it in the “Report center.”

To manage your trade, go to the “Positions” section at the bottom of the “Margin trading” section. Here, you will see various details about your positions, including their current profit and loss. You can close either leg with a market or limit order using the order controls to the right of a position. 

Limit risk and profit with call spreads on OKX

A call spread is a popular way to trade directionally in a market while avoiding exposure to a volatile asset moving against a position. While their upside potential is limited, careful monitoring of positions ensures relatively safe profits when a trader correctly anticipates a crypto asset’s future price trajectory. 

Block trading and other forthcoming functions make deploying both bull and bear spreads on OKX quick and straightforward. By eliminating execution risk, our cutting-edge platform makes the strategy even safer. Given its clear advantages in terms of precise profit and loss calculation, and mitigating risk, call spreads should be part of any serious trader’s repertoire. Game on!